AICPA Digital Asset Reporting Guide Punts on Lending Transactions
January 27, 2023
A working group of the AICPA—which develops a practice aid related to crypto accounting—decided not to directly address a recent position taken by the Securities and Exchange Commission’s (SEC) Office of Chief Accountant (OCA) about how firms should account for crypto lending arrangements.
During an AICPA accounting conference in December last year, now-SEC Chief Accountant Paul Munter said that OCA staff views it as a “crypto lending receivable” for a lack of a better term. And the SEC staff’s views came amid a series of crypto implosions and scandals last year, most notably FTX. the crypto platform had a lack of trustworthy financial information, compromised systems integrity and concentrated control of the business with allegedly fraudulent related-party transactions and loans.
In response to a question by Thomson Reuters at the sidelines of the conference on Dec. 12, 2022, about how the message will be spread to a wider audience, Munter said that “my expectation is that they [the AICPA] will be putting out something as well.”
Because there is no official accounting guidance dedicated to crypto, regulators and standard-setters have been either issuing interpretive guidance or working on narrow standard-setting projects. The AICPA first issued Practice Aid—Accounting for and Auditing of Digital Assets in December 2019 and has been regularly updating the guide as questions were raised and solved by the technical working group. And in January 2022, the panel added a chapter about crypto asset lending and borrowing.
Now, in its latest update, published on Jan. 25, 2023, it does not give an answer about how it should be accounted for even though the guide is in the form of question and answer (Q&A). Instead, after providing an example, it just states: “NOTE: Q&A 25 was discussed during the Office of the Chief Accountant’s Current Project session at the 2022 AICPA & CIMA Conference on Current SEC and PCAOB Developments. Consultation with your professional adviser or the SEC staff is recommended for such fact patterns.”
AICPA Practice Aid: Simple Example
Q&A 25 gives a simple example of a lender lending 100 units of crypto asset ABC for a term of six months to a borrower. The borrower will pay a fee in total of six units of ABC for borrowing ABC during the six-month loan period, paying one unit of ABC each month in arrears during the term. The working group notes that this is typically known as an interest payment. At the end of the six months, the borrower is required to deliver 100 units of ABC back to the lender.
The practice aid also assumes the following:
ABC is an intangible asset under the FASB’s ASC 350.
The ownership of loaned ABC is transferred to the borrower, and the borrower now has the right to transfer, encumber or pledge the crypto asset in any way it chooses.
The borrower is not required to post collateral to the lender.
The borrower has identified its functional currency as the U.S. dollar under FASB ASC 830, Foreign Currency Matters.
Because Q25 lacks an answer about how that example should be accounted for, at least to a former top accountant of the SEC, it was an unfortunate move by the AICPA, to put it mildly.
“What a non-answer but in reality, the correct and best answer,” said Lynn Turner, who served as the SEC’s chief accountant from 1998 to 2001.
But what really troubles him is the notion that the example is about a lending activity.
“This is a scam as this is in no way a ‘lending’ transaction. The ‘lender’ is giving up any and all control of the digital coin to the ‘borrower,’” said Turner who currently serves on the Public Company Accounting Oversight Board’s advisory groups. “To call it anything other than a sale is ridiculous. A better word to describe such a ‘lender’ is ‘fool.’”
SEC OCA Thinking: Crypto Asset Loan Receivable
The note in AICPA guide’s Q&A 25 is referring to a subsequent panel at the AICPA conference in December where Jonathan Wiggins, senior associate chief accountant in SEC’s OCA, better explained the staff’s views using a simple scenario.
An entity loans a crypto asset. At the end of the loan, the borrower must return the same type and quantity. During the period that the loan is outstanding, the borrower has the right and ability to use the loan at its sole discretion, including the ability to sell or pledge the asset to a third-party. The lender would be compensated with a fee, which is typically a percentage of the asset lent during the period of the loan. In addition, in certain arrangements, the loan terms may require the borrower to pledge collateral to the lender.
For this basic fact pattern, the staff believes that “it would be appropriate for the lending entity to derecognize the crypto assets that it lends to the borrower. This is because once the lending entity has lent those crypto assets to the borrower, the entity no longer has the right to the economic benefit of the lent crypto assets until they are returned by the borrower, and therefore the lending entity does not control those crypto assets during that time period,” Wiggins explained. “Concurrent with derecognition of the crypto assets, the staff believes that it would be appropriate for the lending entity to recognize an asset that is reflective of its right to receive the crypto assets back from the borrower at the end of the loan period.”
The SEC staff refers loosely to such an arrangement as a crypto asset loan receivable, and it would be measured at inception and at subsequent reporting based on fair value of the lent crypt assets with changes in fair value reflected in gains and losses.
“Under certain accounting frameworks that may result in the recognition at inception of the loan the gain or loss in other gains and losses, it would be calculated as the difference between the carrying value of the crypto assets and the fair value of the lent crypto assets at inception of the loan,” he said. “Importantly, though, when I referred to gains and losses, the staff believes that these would be presented separately from revenue in the income statement. Because the lending transaction exposes the entity to credit risk of the borrower, the staff believes it would be appropriate for the lending entity to recognize at inception and at each subsequent reporting date an allowance for expected credit losses. And in recognizing that allowance for credit losses, the lending entity would look to the principles in” the FASB’s current expected credit losses (CECL) standard.
In the meantime, these types of arrangements do not really happen in the banking industry, but SEC officials say that they have seen them on crypto platforms or exchanges. And lending arrangements tend to be short-term, usually lasting six months.